Managing Your Credit Cards

ARE YOUR credit cards the worst investments you have going these days?

According to a SmartMoney.com poll, about 50% of readers are using cards that charge more than 12% interest on outstanding balances. And 17.5% are paying 18% or more. With an interest rate like that, you'd better be paying off that balance in full each month. If not, read on: Our new, interactive credit card analyzer will help you find a new card that won't bleed you dry.

It's no surprise that so many people carry such expensive credit cards. After all, there is a whole industry of card issuers out there devoted to using hidden fees and interest rate gymnastics to gouge you as best they can. Consider this: According to Gerri Detweiler, author of "The Ultimate Credit Handbook," some credit card companies are actually starting to get rid of card holders who pay off their balances each month. "Instead, the card issuer might try to move you to a card with an annual fee or a debit card," she says.

The key to getting a better credit card deal is figuring out how much a given card really costs you. You've probably gotten a stack of card offers in the mail over the past week, each sounding cheaper than the next. Just plug in a few numbers, and our analyzer will calculate the true cost -- or net interest rate -- of each one, so you can compare them side by side. And if you're looking for a specific type of card -- one that, say, gives you airline mileage or no annual fee -- check out our credit card rate center and pick out those that best fit your needs.

Rates
Whatever you do, don't kid yourself when it comes to those tempting introductory offers. Sure, you may think you're going to pay off that balance in full by the time that low rate bumps up to a frightening 18% APR or higher. But those institutions are banking on the fact that you won't. And get real -- they're probably right.

You also want to make sure that the interest rate touted on the card offer doesn't only apply to the juicy balance you're going to roll over. Some card issuers actually charge you two interest rates -- one for your transfer balance, and one for new purchases, says Detweiler.

Rates can also increase sharply if you're late on a payment. "I've seen rates jump from 12% to 19.8% when an account is as little as one day late," says Detweiler. That's often a permanent rate change, so if you fall into that trap, you're probably going to have to change cards altogether. (But you should first give your card issuer a call to see if you can return to the lower rate.)

Grace Period
If you do pay off your balance in full each month, make sure you get a card with a grace period (the amount of time you have to pay your bill before you start accruing interest) of 25 days or longer. Believe it or not, some cards start charging you interest at the time of purchase, so even if you pay off your balance each month, you're still going to owe your card issuer some extra cash.

Other cards have sneaky grace periods that only cover you for 20 days from the transaction. With these cards, if you wait to pay your bill until it's actually due, you'll still owe interest.

Don't be fooled by the grace period, however. If you carry a balance, you pay interest on that baby 365 days out of the year (or at least until you pay it off).

Fees
With more consumers getting smart about paying off their monthly balance, card issuers have gotten slyer with their fees -- from transfer fees to over-the-limit fees. That's why you need to actually read the fee disclosure, which should be listed in a box on the credit card offer. Here are some things to look out for:

• Annual fees. This one is simple -- if you've got a good credit rating and pay off your balance in full, don't pay one. There are enough good cards out there that don't charge this fee that it can be easily avoided.
• Closure fees. Some cards will actually charge you a fee for closing an account, says Detweiler -- sometimes as much as $50! This is highway robbery at its worst, and the only way to avoid it is to know up-front whether the card issuer charges this fee.
• Late fees. Late fees can be charged if your payment is just one day late and can also lead to an increase in your interest rate.

Fixed vs. Variable
You may be offered a choice between a fixed and variable rate, with the fixed rate being slightly higher. But unlike your mortgage, it really doesn't matter much. Why? Because a fixed rate really isn't fixed at all. All "fixed" means is that when your interest rate changes, your card issuer needs to warn you 15 days in advance.

In contrast, a variable rate can change without notice. Most variable rates, however, are tied to a national interest rate like the prime rate, so you shouldn't be caught completely off guard. The bottom line is that you should make sure you understand how the rate is calculated and keep an eye on your bills. But you should be doing that anyway.

How to dig yourself out of credit card debt

I tell many of my small-business clients, whether sole proprietors or corporations, to get a couple of credit cards in place.

I like using credit cards for several reasons:

• Most of the top-of-the-line cards will send year-end summaries of your spending, which is good for those clients who do not keep up to date financial statements.

• Credit cards are good for travel and other expenses and pay only one bill every month.

• It is good to have credit card debt available for those times when cash is hard to find.

The major drawback to using credit cards is that too many people overextend and find themselves in the black hole of high interest credit card debt. Current credit card debt totals about $360 billion. As consumers, we are more in debt than the government; not a flattering comparison. Credit card debt is easy to get into and sometimes very difficult to dig yourself out of.

Here are some suggestions to help you stay out of the black hole:

• Do everything you can to pay off the credit card balance every month. Most credit cards have interest rates between 13.5 percent and 21 percent. Paying that kind of interest, except in extreme cases, is just not smart.

• If you can't pay off the entire balance, at least make a payment that is in excess of the minimum due. The minimum payment amount is simply the interest amount due on the principal. If you only pay the minimum you will never pay off the card. Depending on the balance outstanding, add $50 to several hundred dollars to the minimum in order to eat away at the principal balance. While you're doing this, try and stay away from using the card.

• If you find yourself knee deep in credit card debt, find some solutions that will help with the burden. Call your credit card company and ask them for a lower interest rate. Believe it or not, this actually works sometimes. They would rather see you pay off the debt than see you in their bad debt write-offs.

• Find one of those credit cards with an introductory rate of between 5.9 percent and 6.9 percent and transfer your balance to get a better interest rate that will make it easier to get the principal paid down. While the interest rate is low, get the balance paid off.

• If that does not work, find a way to consolidate your debts into a regular-term note. These will have a lower interest rate and you will only make one payment every month. When you find yourself in this situation, lay off the credit cards until you have your consolidation loan paid off. Learn from your mistake, don't compound it by incurring even more debt.

• Take out a home-equity loan and, if necessary, lend it to your company to pay off debts. The interest is deductible for you personally, lower than the credit card interest rate and the company can set up a payment schedule to pay you back.

If your plan is to pay off the balance every month, use a trick my father taught me. Enter each credit card purchase into your checkbook as if you had written a check. When the bill comes in, you have already accounted for the payment required in your checkbook and can then write the check without wondering where the cash will come from.

If you have savings that you do not want to dip into to pay off the credit cards, look at what you are earning on your savings and what you are paying on the debt. One is always higher than the other and it is not your savings interest rate. Use your savings to get out of debt and know that you can always charge an emergency on your credit card. Take the interest charges you are not incurring every month and save that instead.

If while you are working yourself out of debt, you feel like you are having to do without, do two things. Remember that you got yourself into debt because you spent more than you had to spend. To get yourself out of debt, you will need to reverse that scenario. Look at your credit card statements over that past few years and add up the finance and interest charges incurred. You will be stunned at what you could have purchased if you had not paid it to the credit card companies as interest.

The truth about credit card debt

Conventional wisdom is that were all hooked and struggling. The reality is, in fact, quite different and less frightening.

Youve probably heard that the average American carries more than $8,000 in credit card debt.

Its a figure frequently cited by politicians, journalists and pundits as a sure sign of impending economic collapse. They argue that consumers, already struggling under this massive burden of debt, soon will have to stop spending like drunken sailors. The economic recovery, therefore, is doomed!

The surprising thing about this statistic isnt that its so widely known. Rather, its that the statistic paints a picture thats just plain wrong.

• In reality, most Americans owe nothing to credit card companies.
  
• Most households that carry balances owe $2,000 or less.
  
• Only about 1 in 20 American households owes $8,000 or more on credit cards.

These figures are from the Federal Reserves 2001 Survey of Consumer Finances, one of the most comprehensive assessments of what Americans own and owe. (The survey is updated every three years; a summary of 2004's results will be published in early 2006.)

Take heart: Were actually frugal
In much the same way, a relatively small population with huge credit card balances can skew the average to make it look like the typical American is carrying a much bigger debt load than he or she actually is. Consider:

• 23.8% of American households have no credit cards at all -- no bank cards, no retail cards, nothing.
  
• Another 31.2% of the households the Fed surveyed paid off their most recent credit card bills in full.
  
• So together, the households that owed nothing on credit cards equaled 55% of the total.

Heres some better news: Paying off balances actually became more common between 1998 and 2001. The proportion of households that had bank cards (Visa, MasterCard, etc.) who reported that they regularly paid off their balances in full rose 1.5 percentage points to 55.3%.

We dont carry that much debt
Of the households that did carry a balance, the median amount owed was $1,900. That means half of the households with a balance owed more, and half owed less. (Medians are less subject to the skewing phenomenon that plagues averages; thats why economists tend to favor them.)

Bill Whitt at the VIP Forum, a Washington D.C. research firm, helped me dig even deeper. By analyzing the credit card debts of all the households the Fed surveyed, Whitt discovered:

• Only 29% of households owe $1,000 or more on their cards.
  
• 21% owe $2,000 or more.
  
• 6% owe $8,000 or more.
  
• 4% owe $10,500 or more.
  
• 1% owe $21,400 or more.

The Fed statistics pretty much gibe with what Fair Isaac, the creator of the FICO credit score, discovered when it reviewed millions of credit reports.

There are a few differences between the universe the Fed examined and the one looked at by Fair Isaac. For one thing, credit reports are individual -- theres no such thing as a household or even a joint credit report. Also, you have to have and use credit to have a credit report. Finally, credit reports dont typically distinguish between balances you pay off and those you carry each month.

But again, Fair Isaacs statistics show a world in which most people are light to moderate users of credit:

• About 48% of credit card holders owed less than $1,000
  
• About 10% of card holders had total card balances in excess of $10,000.
  
• More than half of all people with credit cards use less than 30% of their total credit card limit.
  
• Just over 1 in 8 people use 80% or more of their credit card limit.

Theres still plenty of trouble out there
Does this mean all the hand-wringing over consumer debt is so much noise? Hardly. Although most Americans seem to be avoiding the credit card trap, there are still plenty of people on the financial edge:

• More than a third -- 36% -- of those who owe more than $10,000 on their cards have household incomes under $50,000, according to the VIP Forum analysis.
  
• 13% who owe that much have household incomes under $30,000.
  
• The percentage of disposable income used to pay debts is still near record highs.
  
• The median value of total outstanding debt owed by households rose 9.6% between 1998 and 2001.
  
• Bankruptcies set another record in 2003, with 1.6 million personal filings, the American Bankruptcy Institute reports.

All of that is more than enough evidence to suggest that a large number of people are overdosing on debt. The average American, though, seems to be doing just fine.